Why Do Cities File for Bankruptcy Protection? - John T. Orcutt - Exploring Chapter 9 Bankruptcies Skip to main content

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Why Do Cities File for Bankruptcy Protection?

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Image Source: theatlanticcities.com

While personal and corporate bankruptcies are commonly in the news, there is another disturbing bankruptcy trend that shows just how heavy the economic strain has become in several areas of the country. Cities around the nation have become so financially strapped, they are now filing for bankruptcy protection. But what happens when a city, town or county in the United States files for bankruptcy? Let’s take a look.

Municipal Bankruptcies

Known as a municipal bankruptcy, cities, towns and counties must file for protection under Chapter 9 of the United States bankruptcy code. Federal bankruptcy for municipalities was originally enacted by Congress during the 1930’s. According to statistics, 270 municipal bankruptcies have been filed since1980. Just last year alone, 13 cities filed for Chapter 9 reorganization.

Some of the most recent and noteworthy municipal bankruptcy filings that you may not know about are:

Stockton, California: This city filed for bankruptcy protection in June 2012. Stockton is the largest American city, in terms of population, to file for bankruptcy protection from creditors under Chapter 9. With under 300,000 residents, officials estimate that Stockton could owe its creditors as much as $1 billion.

Harrisburg, Pennsylvania: This PA city owes an estimated $400 million to lenders, however, a judge recently rejected that city's Chapter 9 bankruptcy petition because it violated state law.

Jefferson County, Alabama: This southern county filed for Chapter 9 bankruptcy protection last November. They are approximately $4 billion in debt. Dollar for dollar, Jefferson County’s filing is the largest municipal bankruptcy in United States history.

Image Source: reuters.com

How Does Chapter 9 bankruptcy work?

You already know that individuals can file for Chapter 7 or Chapter 13 bankruptcy protection, but when cities file, they must use Chapter 9. This is a specific type of bankruptcy that was originally designed during the Great Depression to help municipalities in financial distress.

Municipalities that file for Chapter 9 bankruptcy protection usually do so for one of two reasons. They are either faced with a catastrophic event that keeps them from being able to repay their debts or their financial structure is completely unsustainable.

Not every municipality is legally able to file for bankruptcy protection. Eligibility is determined by state laws and, in some states, no district can legally seek to file Chapter 9 protection. In other states, any municipality has the bankruptcy option, while in some states, a judge decides on a case-by-case basis whether a town can legally file for bankruptcy.

What Happens After Filing Chapter 9?

Once a town files for Chapter 9 bankruptcy protection, it has the ability to negotiate its contracts. They can negotiate pension plan terms or other types of benefits that allow the city to cut some serious costs. Municipalities could not participate in such negotiations without the protection of Chapter 9 bankruptcy.

In some instances, the very idea that a town is considering filing for bankruptcy is enough to motivate its creditors to negotiate a repayment plan. This is simply because bankruptcy can ultimately mean creditors will lose a large chunk of money they invested in the town. Not willing to take such a loss, many are willing to accept a reduced payment plan to prevent the town from seeking Chapter 9 bankruptcy protection.

Image Source: pewstates.org 

Is Chapter 9 Bankruptcy Common?

No matter how often you read about municipal bankruptcies in the newspapers or see reports of towns going bankrupt on the news, Chapter 9 filings are thankfully a rarity. Once a town does file for bankruptcy, it tends to look bad on behalf of the municipal politicians. They don’t want that negative mark on their political record, so they will generally seek forms of non-bankruptcy alternatives. Unfortunately for the citizens, these “alternatives” usually come in the form of increased taxes, raised city fees and budget cuts to parks, animal shelters and community services.

Luckily, filing for individual Chapter 7 or Chapter 13 bankruptcy protection is much easier for you, since you are not a municipality. If you are struggling to pay your bills and find yourself in financial turmoil, it’s time to speak with an experienced North Carolina bankruptcy attorney.

Dedicated to helping residents of North Carolina find the best solutions to their debt problems. Don’t waste another day worrying about your debt. Call 1-888-234-4181 today to schedule a free initial consultation to discuss your bankruptcy options.

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